A new variance ratio is proposed in this article that utilises the extreme values of asset prices. On the basis of the specification test, it is documented that there is excess volatility in the Indian stock market, whereas this feature is completely absent in the US. It is also found that such excess volatility is persistent in India in the sense that it gives rise to excessive path dependence. Furthermore, it is shown how such path dependence can be modelled from a theoretical point of view by way of the Binomial Markov Random Walk model.
Ane, T. and H. Geman (2000), ‘Order Flow, Transaction Clock and Normality of Asset Returns’, Journal of Finance, 55(5): 2259–84.
2.
Ball, C.A. and W.N. Torous (1984), ‘The Maximum Likelihood Estimation of Security Price Volatility: Theory, Evidence and Application to Option Pricing’, Journal of Business, 57(1): 97–112.
3.
Becker, M., R. Friedmann and S. Klossner (2008), ‘Intraday Overreaction of Stock Prices’, Working Paper, Saarland University, Saarbrucken, Germany.
4.
Bick, A. (1990), ‘On Viable Diffusion Price Processes of the Market Portfolio’, Journal of Finance, 45(2): 673–89.
5.
Clark, P.K. (1973), ‘A Subordinated Stochastic Process Model with Finite Variance for Speculative Prices’, Econometrica, 41(1): 135–55.
6.
Dothan, M. (2008), ‘Efficiency and Arbitrage in Financial Markets’, International Research Journal of Finance and Economics, 19(19): 102–06.
7.
Fuh, C.D. (1997), ‘Corrected Diffusion Approximations for Ruin Probabilities in a Markov Random Walk’, Advances in Applied Probability, 29(3): 695–712.
8.
Garman, M.B. and M.J. Klass (1980), ‘On the Estimation of Security Price Volatilities’, Journal of Business, 53(1): 67–78.
9.
He, H. and H. Leland (1993), ‘On Equilibrium Asset Price Processes’, Review of Financial Studies, 6(3): 593–617.
10.
LeRoy, S.F. and R.D. Porter (1981), ‘The Present-value Relation: Tests Based on Implied Variance Bounds’, Econometrica, 49(3): 555–74.
11.
Parkinson, M. (1980), ‘The Extreme Value Method for Estimating the Variance of the Rate of Return’, Journal of Business, 53(1): 61–65.
12.
Rogers, L.C.G. and S.E. Satchell (1991), ‘Estimating Variance from High, Low and Closing Prices’, Annals of Applied Probability, 1(4): 504–12.
13.
Shiller, R.J. (1981), ‘Do Stock Prices Move too Much to be Justified by Subsequent Changes in Dividends?’, American Economic Review, 71(3): 421–36.
